DOL Finalizes Rule Regarding the Use of ESG Factors for ERISA Plan Investments

November 9, 2020

Client Alert
On October 30, 2020, the Department of Labor (the “DOL”) issued a final rule which amends its 1979 investment duties regulation under the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), to update and clarify its position with respect to ERISA plan fiduciaries’ use of environmental, social and governance (ESG) factors in selecting investments. Over the years, the DOL’s interpretations and guidance regarding requirements with respect to the use of ESG factors has fluctuated depending on the administration in power. The final rule provides the current DOL’s position regarding the use of ESG factors in selecting ERISA plan investments. The main principle of the final rule is that ERISA plan fiduciaries must only consider financial risks and/or returns and interests of plan participants and beneficiaries when selecting particular investments or investment courses of action.

In summary, the final rule requires ERISA plan fiduciaries to evaluate plan investments using only pecuniary factors. However, if investments are indistinguishable based on consideration of pecuniary factors, the plan fiduciary may consider non‑pecuniary factors. Plan fiduciaries must consider only pecuniary factors when selecting a menu of investments for a defined contribution plan (e.g., a 401(k) plan). Finally, the final rule prohibits the selection of an investment to be used as a qualified default investment alternative (QDIA) under a defined contribution plan if such investment considers or uses non‑pecuniary factors.

The rule includes some differences from the proposed rule, which was published on June 30, 2020. However, even after significant public comments that mostly opposed the restrictions that the DOL imposed on ESG investing, the substance of the proposed rule remains largely intact. Notably, the final rule no longer explicitly refers to “ESG.” The rationale for this revision generally was to prevent consideration of non‑pecuniary factors, which are not limited to ESG factors. In other words, the final rule does not specifically prohibit investments that involve ESG strategies as long as plan fiduciaries only use “pecuniary” factors when evaluating investments.

In addition to removing the specific “ESG” references, the final rule does the following:

The final rule applies prospectively and will generally be effective 60 days after publication in the Federal Register. Although the final rule makes a few changes to the proposed rule, it is likely that critics of the proposed rule will still oppose the final rule. It will be interesting to see whether a future Democratic administration will make changes to the final rule. In the meantime, however, ERISA plan fiduciaries should consider the impact of the final rule on its investments and investment strategies.

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